What Is Surety?
Personal Surety is defined as “A surety bond or surety is a promise by a surety or guarantor to pay one party (the obligee) a certain amount if a second party (the principal) fails to meet some obligation, such as fulfilling the terms of a contract”.
This is also simplified by understanding that when an individual or business borrows money from a lender, the lender wishes to reduce their risk as far as possible. Should the borrower fail to repay the loan, how easy is it for the lender to recover their money? The more viable options there are to recover the money, the less risk for the lender.
Surety 1 – Personal Surety
Mr. B. owns a company called Bart Industries PTY (Ltd). The company needs to raise capital to extend their manufacturing facility. Bart Industries borrows money from Bank A, to pay for this manufacturing facility.
Bank A requires surety for this loan and seeing that Mr. B owns Bart Industries demands that Mr. B signs surety, in his personal capacity, for this loan on behalf Bart Industries.
This means that should Bart Industries fail to maintain payments on this loan to Bank A, Bank A may proceed to call up the surety, which Mr. B signed, and ask Mr. B to pay the money owed by Bart Industries. Should Mr. B fail to make payment to Bank A in terms of the surety he signed, Bank A will proceed to repossess Mr. B’s house and furniture to repay the loan and interest.
Surety 2 – Surety on behalf of
Mr. C and Mr. B have been good friends for many years. Mr. C wants to purchase a house, but does not have a good credit history seeing that he overspent at the cafeteria using his credit card and missed some payments.
Although Mr. C can afford to purchase the house, Bank A is wary of the fact that he does not have a good credit history and therefore need extra security for this loan and asks Mr. C if a friend will sign surety for this home loan. Seeing that Mr. B and Mr. C are such good friends, Mr. C asks his friend Mr. B if he will sign surety for his bond account.
Mr. C makes Mr. B feel terrible that he cannot afford all the nice things Mr. B has, and convinces Mr. B to sign the surety for the property. Should Mr. C. fail to maintain his payments to Bank A, Bank A may proceed with legal action against Mr. B to pay for this loan and interest added to the loan. Mr. B could lose all his possessions due to signing surety on behalf of Mr. C.
In both these scenarios it does not mean that you are automatically liable for the debt. Should the relevant borrowers maintain their loan repayments, you are not liable. You only become liable once the borrower defaults on the loan, then the surety liability will be applicable.
Cancellation of surety
A surety can be cancelled in writing with the permission of the relevant creditor. If a bank is willing to cancel the surety, it will only do so once the debt is paid in full, or can be replaced with another surety that will satisfy the creditor.
This does not happen often as creditors are not willing to release security it has for a credit agreement. It is also important to note that surety is not always cancelled even when the debt has been repaid.
In the instance where a director signs surety for a company, the director can be held liable for this surety even after the company has been sold, should the director not have written confirmation that the surety has been cancelled.
It is often unavoidable to sign surety, especially when you are in business. Therefore, you need to ensure that the surety is limited in terms of the period of the surety and also in terms of the amount you sign surety for.